Consolidated F inancial Statements

Transcription

1 Consolidated F inancial Statements Reports 126 Management s responsibility for financial reporting 126 Report of Independent Registered Chartered Accountants 126 Comments by Independent Registered Chartered Accountants on Canada-United States of America Reporting Difference 127 Management s Report on Internal Control over Financial Reporting 127 Report of Independent Registered Chartered Accountants Consolidated Financial Statements 128 Consolidated Balance Sheets 129 Consolidated Statements of Income 130 Consolidated Statements of Comprehensive Income 130 Consolidated Statements of Changes in Shareholders Equity 131 Consolidated Statements of Cash Flows Notes to the Consolidated Financial Statements 132 Note 1 Significant accounting policies and estimates 137 Note 2 Fair value of financial instruments 141 Note 3 Securities 144 Note 4 Loans 146 Note 5 Securitizations 148 Note 6 Variable interest entities 149 Note 7 Derivative instruments and hedging activities 153 Note 8 Premises and equipment 154 Note 9 RBC Dexia Investor Services joint venture 154 Note 10 Goodwill and other intangibles 156 Note 11 Significant acquisitions 157 Note 12 Other assets 158 Note 13 Deposits 159 Note 14 Insurance 159 Note 15 Other liabilities 160 Note 16 Subordinated debentures 161 Note 17 Trust capital securities 162 Note 18 Preferred share liabilities and share capital 164 Note 19 Non-controlling interest in subsidiaries 164 Note 20 Pensions and other post-employment benefits 167 Note 21 Stock-based compensation 169 Note 22 Revenue from trading and selected non-trading financial instruments 170 Note 23 Income taxes 171 Note 24 Earnings per share 172 Note 25 Guarantees, commitments and contingencies 176 Note 26 Contractual repricing and maturity schedule 176 Note 27 Related party transactions 177 Note 28 Results by business and geographic segment 179 Note 29 Nature and extent of risks arising from financial instruments 186 Note 30 Capital management 187 Note 31 Reconciliation of the application of Canadian and United States generally accepted accounting principles 199 Note 32 Parent company information 200 Note 33 Subsequent event Consolidated Financial Statements Royal Bank of Canada: Annual Report

2 Management s responsibility for financial reporting The accompanying Consolidated Financial Statements of Royal Bank of Canada (RBC) were prepared by management, which is responsible for the integrity and fairness of the information presented, including the many amounts that must of necessity be based on estimates and judgments. These Consolidated Financial Statements were prepared in accordance with Canadian generally accepted accounting principles (GAAP) pursuant to Subsection 308 of the Bank Act (Canada), which states that, except as otherwise specified by the Superintendent of Financial Institutions Canada, the financial statements are to be prepared in accordance with Canadian GAAP. Financial information appearing throughout our Management s Discussion and Analysis is consistent with these Consolidated Financial Statements. In discharging our responsibility for the integrity and fairness of the Consolidated Financial Statements and for the accounting systems from which they are derived, we maintain the necessary system of internal controls designed to ensure that transactions are authorized, assets are safeguarded and proper records are maintained. These controls include quality standards in hiring and training of employees, policies and procedures manuals, a corporate code of conduct and accountability for performance within appropriate and well-defined areas of responsibility. The system of internal controls is further supported by a compliance function, which is designed to ensure that we and our employees comply with securities legislation and conflict of interest rules, and by an internal audit staff, which conducts periodic audits of all aspects of our operations. The Board of Directors oversees management s responsibilities for financial reporting through an Audit Committee, which is composed entirely of independent directors. This Committee reviews our Consolidated Financial Statements and recommends them to the Board for approval. Other key responsibilities of the Audit Committee include reviewing our existing internal control procedures and planned revisions to those procedures, and advising the directors on auditing matters and financial reporting issues. Our Compliance Officer and Chief Internal Auditor have full and unrestricted access to the Audit Committee. The Office of the Superintendent of Financial Institutions Canada (OSFI) examines and inquires into the business and affairs of RBC as deemed necessary to determine whether the provisions of the Bank Act are being complied with, and that RBC is in sound financial condition. In carrying out its mandate, OSFI strives to protect the rights and interests of depositors and creditors of RBC. Deloitte & Touche LLP, Independent Registered Chartered Accountants appointed by the shareholders of RBC upon the recommendation of the Audit Committee and Board, have performed an independent audit of the Consolidated Financial Statements and their report follows. The auditors have full and unrestricted access to the Audit Committee to discuss their audit and related findings. Gordon M. Nixon President and Chief Executive Officer Janice R. Fukakusa Chief Financial Officer Toronto, December 4, 2008 Report of Independent Registered Chartered Accountants To the Shareholders of Royal Bank of Canada We have audited the consolidated balance sheets of Royal Bank of Canada (the Bank ) as at October 31, 2008 and 2007 and the consolidated statements of income, comprehensive income, changes in shareholders equity and cash flows for each of the three years in the period ended October 31, These financial statements are the responsibility of the Bank s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with Canadian generally accepted auditing standards and the standards of the Public Company Accounting Oversight Board (United States). These standards require that we plan and perform an audit to obtain reasonable assurance whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, these consolidated financial statements present fairly, in all material respects, the financial position of the Bank as at October 31, 2008 and 2007 and the results of its operations and its cash flows for each of the three years in the period ended October 31, 2008 in accordance with Canadian generally accepted accounting principles. We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Bank s internal control over financial reporting as of October 31, 2008 based on the criteria established in Internal Control Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated December 4, 2008 expressed an unqualified opinion on the Bank s internal control over financial reporting. Deloitte & Touche LLP Independent Registered Chartered Accountants Licensed Public Accountants Toronto, Canada December 4, 2008 Comments by Independent Registered Chartered Accountants on Canada-United States of America Reporting Difference The standards of the Public Company Accounting Oversight Board (United States) require the addition of an explanatory paragraph (following the opinion paragraph) when there is a change in accounting principles that has a material effect on the comparability of the Bank s financial statements, such as the changes described in Notes 1, 2, 3, 7, and 31 to the consolidated financial statements. Our report to the shareholders dated December 4, 2008, is expressed in accordance with Canadian reporting standards which do not require a reference to such a change in accounting principles in the auditors report when the change is properly accounted for and adequately disclosed in the financial statements. Deloitte & Touche LLP Independent Registered Chartered Accountants Licensed Public Accountants Toronto, Canada December 4, Royal Bank of Canada: Annual Report 2008 Consolidated Financial Statements

3 Management s Report on Internal Control over Financial Reporting Management of Royal Bank of Canada (RBC) is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed by, or under the supervision of, the President and Chief Executive Officer and the Chief Financial Officer and effected by the Board of Directors, management and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. It includes those policies and procedures that: pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions related to and dispositions of RBC s assets provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and RBC receipts and expenditures are made only in accordance with authorizations of management and RBC s directors provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of RBC assets that could have a material effect on RBC s financial statements. Due to its inherent limitations, internal control over financial reporting may not prevent or detect misstatements on a timely basis. Also, projections of any evaluation of the effectiveness of internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Management assessed the effectiveness of RBC s internal control over financial reporting as of October 31, 2008, based on the criteria set forth in Internal Control Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on that assessment, management concluded that, as of October 31, 2008, RBC s internal control over financial reporting is effective based on the criteria established in the Internal Control Integrated Framework. Also, management determined that there were no material weaknesses in RBC s internal control over financial reporting as of October 31, RBC s internal control over financial reporting as of October 31, 2008 has been audited by Deloitte & Touche LLP, Independent Registered Chartered Accountants, who also audited RBC s Consolidated Financial Statements for the year ended October 31, 2008, as stated in the Report of Independent Registered Chartered Accountants, which report expressed an unqualified opinion on the effectiveness of RBC s internal control over financial reporting. Gordon M. Nixon President and Chief Executive Officer Janice R. Fukakusa Chief Financial Officer Toronto, December 4, 2008 Report of Independent Registered Chartered Accountants To the Shareholders of Royal Bank of Canada We have audited the internal control over financial reporting of Royal Bank of Canada (the Bank ) as of October 31, 2008 based on the criteria established in Internal Control Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. The Bank s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Bank s internal control over financial reporting based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. A company s internal control over financial reporting is a process designed by, or under the supervision of, the company s principal executive and principal financial officers, or persons performing similar functions, and effected by the company s board of directors, management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company s assets that could have a material effect on the financial statements. Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. In our opinion, the Bank maintained, in all material respects, effective internal control over financial reporting as of October 31, 2008 based on the criteria established in Internal Control Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. We have also audited, in accordance with Canadian generally accepted auditing standards and the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements as at and for the year ended October 31, 2008 of the Bank and our report dated December 4, 2008 expressed an unqualified opinion on those consolidated financial statements. Deloitte & Touche LLP Independent Registered Chartered Accountants Licensed Public Accountants Toronto, Canada December 4, 2008 Consolidated Financial Statements Royal Bank of Canada: Annual Report

4 Consolidated Balance Sheets As at October 31 (C$ millions) Assets Cash and due from banks $ 11,086 $ 4,226 Interest-bearing deposits with banks 20,041 11,881 Securities (Note 3) Trading 122, ,485 Available-for-sale 48,626 30, , ,255 Assets purchased under reverse repurchase agreements and securities borrowed 44,818 64,313 Loans (Notes 4 and 5) Retail 195, ,462 Wholesale 96,300 69,967 Allowance for loan losses 291, ,429 (2,215) (1,493) 289, ,936 Other Customers liability under acceptances 11,285 11,786 Derivatives (Note 7) 136,134 66,585 Premises and equipment, net (Note 8) 3,260 2,131 Goodwill (Note 10) 9,977 4,752 Other intangibles (Note 10) 1, Other assets (Note 12) 25,331 17,853 Liabilities and shareholders equity 187, ,735 $ 723,859 $ 600,346 Deposits (Note 13) Personal $ 139,036 $ 116,557 Business and government 269, ,886 Bank 29,545 28, , ,205 Other Acceptances 11,285 11,786 Obligations related to securities sold short 27,507 44,689 Obligations related to assets sold under repurchase agreements and securities loaned 32,053 37,033 Derivatives (Note 7) 128,705 72,010 Insurance claims and policy benefit liabilities (Note 14) 7,385 7,283 Other liabilities (Note 15) 35,689 28, , ,284 Subordinated debentures (Note 16) 8,131 6,235 Trust capital securities (Note 17) 1,400 1,400 Preferred share liabilities (Note 18) 300 Non-controlling interest in subsidiaries (Note 19) 2,371 1,483 Shareholders equity (Note 18) Preferred shares 2,663 2,050 Common shares (shares issued 1,341,260,229 and 1,276,260,033) 10,384 7,300 Contributed surplus Treasury shares preferred (shares held 259,700 and 248,800) (5) (6) common (shares held 2,258,047 and 2,444,320) (104) (101) Retained earnings 19,936 18,167 Accumulated other comprehensive income (loss) (2,358) (3,206) 30,758 24,439 $ 723,859 $ 600,346 Gordon M. Nixon President and Chief Executive Officer Victor L. Young Director 128 Royal Bank of Canada: Annual Report 2008 Consolidated Financial Statements

5 Consolidated Statements of Income For the year ended October 31 (C$ millions) Interest income Loans $ 14,983 $ 14,724 $ 12,708 Securities 6,974 7,665 6,189 Assets purchased under reverse repurchase agreements and securities borrowed 2,889 3,620 2,827 Deposits with banks ,344 26,547 22,204 Interest expense Deposits 12,158 13,770 10,708 Other liabilities 3,472 4,737 4,281 Subordinated debentures ,984 18,845 15,408 Net interest income 9,360 7,702 6,796 Non-interest income Insurance premiums, investment and fee income 2,609 3,152 3,348 Trading revenue (408) 1,999 2,574 Investment management and custodial fees 1,759 1,579 1,301 Mutual fund revenue 1,561 1,473 1,242 Securities brokerage commissions 1,377 1,353 1,243 Service charges 1,367 1,303 1,216 Underwriting and other advisory fees 875 1,217 1,024 Foreign exchange revenue, other than trading Card service revenue Credit fees Securitization revenue (Note 5) Net (loss) gain on available-for-sale securities (Note 3) (617) 63 Net gain on investment securities 88 Other 1,529 1, Non-interest income 12,222 14,760 13,841 Total revenue 21,582 22,462 20,637 Provision for credit losses (Note 4) 1, Insurance policyholder benefits, claims and acquisition expense 1,631 2,173 2,509 Non-interest expense Human resources (Notes 20 and 21) 7,779 7,860 7,268 Equipment 1,155 1, Occupancy Communications Professional fees Outsourced item processing Amortization of other intangibles (Note 10) Other 704 1, ,351 12,473 11,495 Income from continuing operations before income taxes 6,005 7,025 6,204 Income taxes (Note 23) 1,369 1,392 1,403 Net income before non-controlling interest 4,636 5,633 4,801 Non-controlling interest in net income of subsidiaries Net income from continuing operations 4,555 5,492 4,757 Net loss from discontinued operations (29) Net income $ 4,555 $ 5,492 $ 4,728 Preferred dividends (Note 18) (101) (88) (60) Net income available to common shareholders $ 4,454 $ 5,404 $ 4,668 Average number of common shares (in thousands) (Note 24) 1,305,706 1,273,185 1,279,956 Basic earnings per share (in dollars) $ 3.41 $ 4.24 $ 3.65 Basic earnings per share from continuing operations (in dollars) $ 3.41 $ 4.24 $ 3.67 Basic earnings (loss) per share from discontinued operations (in dollars) $ $ $ (.02) Average number of diluted common shares (in thousands) (Note 24) 1,319,744 1,289,314 1,299,785 Diluted earnings per share (in dollars) $ 3.38 $ 4.19 $ 3.59 Diluted earnings per share from continuing operations (in dollars) $ 3.38 $ 4.19 $ 3.61 Diluted earnings (loss) per share from discontinued operations (in dollars) $ $ $ (.02) Dividends per share (in dollars) $ 2.00 $ 1.82 $ 1.44 Consolidated Financial Statements Royal Bank of Canada: Annual Report

6 Consolidated Statements of Comprehensive Income For the year ended October 31 (C$ millions) Comprehensive income Net income $ 4,555 $ 5,492 $ 4,728 Other comprehensive income, net of taxes Net change in unrealized (losses) gains on available-for-sale securities Net unrealized losses on available-for-sale securities (1,376) (93) Reclassification of losses on available-for-sale securities to income (1,003) (65) Foreign currency translation adjustments Unrealized foreign currency translation gains (losses) 5,080 (2,965) (501) Reclassification of (gains) losses on foreign currency translation to income (3) (42) 2 Net foreign currency translation (losses) gains from hedging activities (2,672) 1, ,405 (1,203) (230) Net change in cash flow hedges Net (losses) gains on derivatives designated as cash flow hedges (603) 80 Reclassification of losses on derivatives designated as cash flow hedges to income (554) 111 Other comprehensive income (loss) 848 (1,157) (230) Total comprehensive income $ 5,403 $ 4,335 $ 4,498 Consolidated Statements of Changes in Shareholders Equity For the year ended October 31 (C$ millions) Preferred shares (Note 18) Balance at beginning of year $ 2,050 $ 1,050 $ 700 Issued 613 1, Redeemed for cancellation (150) (250) Balance at end of year 2,663 2,050 1,050 Common shares (Note 18) Balance at beginning of year 7,300 7,196 7,170 Issued 3, Purchased for cancellation (6) (66) (101) Balance at end of year 10,384 7,300 7,196 Contributed surplus Balance at beginning of year Renounced stock appreciation rights (5) (6) (2) Stock-based compensation awards 14 (46) (18) Other (2) (5) 47 Balance at end of year Treasury shares preferred (Note 18) Balance at beginning of year (6) (2) (2) Sales Purchases (22) (37) (51) Balance at end of year (5) (6) (2) Treasury shares common (Note 18) Balance at beginning of year (101) (180) (216) Sales Purchases (54) (96) (157) Balance at end of year (104) (101) (180) Retained earnings Balance at beginning of year 18,167 15,771 13,704 Transition adjustment Financial instruments (1) (86) Net income 4,555 5,492 4,728 Preferred share dividends (Note 18) (101) (88) (60) Common share dividends (Note 18) (2,624) (2,321) (1,847) Premium paid on common shares purchased for cancellation (49) (580) (743) Issuance costs and other (12) (21) (11) Balance at end of year 19,936 18,167 15,771 Accumulated other comprehensive income (loss) Transition adjustment Financial instruments (1) (45) (45) Unrealized gains and losses on available-for-sale securities (1,068) (65) Unrealized foreign currency translation gains and losses, net of hedging activities (802) (3,207) (2,004) Gains and losses on derivatives designated as cash flow hedges (443) 111 Balance at end of year (2,358) (3,206) (2,004) Retained earnings and Accumulated other comprehensive income 17,578 14,961 13,767 Shareholders equity at end of year $ 30,758 $ 24,439 $ 22,123 (1) The transition adjustment relates to the implementation of the financial instruments accounting standards. Refer to Note Royal Bank of Canada: Annual Report 2008 Consolidated Financial Statements

7 Consolidated Statements of Cash Flows For the year ended October 31 (C$ millions) Cash flows from operating activities Net income $ 4,555 $ 5,492 $ 4,757 Adjustments to determine net cash from (used in) operating activities Provision for credit losses 1, Depreciation Business realignment payments (11) (38) (74) Future income taxes (455) (147) 144 Amortization of other intangibles Gain on sale of premises and equipment (17) (16) (16) Gain on loan securitizations (203) (41) (16) Loss (gain) on sale of available-for-sale securities 1 (146) Writedown of available-for-sale securities Gain on sale of investment securities (228) Writedown of investment securities 25 Changes in operating assets and liabilities Insurance claims and policy benefit liabilities 102 (54) 220 Net change in accrued interest receivable and payable 164 (28) 217 Current income taxes (2,705) 1,034 (203) Derivative assets (69,527) (28,856) 1,105 Derivative liabilities 56,685 29,916 (498) Trading securities 25,013 10,976 (21,341) Net change in brokers and dealers receivable and payable (552) (317) (1,017) Other (4,518) 3,341 1,713 Net cash from (used in) operating activities from continuing operations 11,432 22,503 (14,302) Net cash from operating activities from discontinued operations 4 Net cash from (used in) operating activities 11,432 22,503 (14,298) Cash flows from investing activities Change in interest-bearing deposits with banks (8,160) (1,379) (5,265) Change in loans, net of loan securitizations (62,209) (41,802) (33,534) Proceeds from loan securitizations 9,480 8,020 8,139 Proceeds from sale of available-for-sale securities 8,885 8,117 Proceeds from sale of investment securities 8,547 Proceeds from maturity of available-for-sale securities 14,804 15,350 Proceeds from maturity of investment securities 27,188 Purchases of available-for-sale securities (24,864) (22,012) Purchases of investment securities (31,976) Net acquisitions of premises and equipment (1,265) (706) (511) Change in assets purchased under reverse repurchase agreements and securities borrowed 19,650 (4,935) (16,405) Net cash used in acquisitions (974) (373) (256) Net cash (used in) investing activities from continuing operations (44,653) (39,720) (44,073) Net cash from investing activities from discontinued operations 140 Net cash used in investing activities (44,653) (39,720) (43,933) Cash flows from financing activities Change in deposits 61,271 16,831 36,663 Issue of RBC Trust Capital Securities 500 Issue of RBC Trust Subordinated Notes 1,000 Issue of subordinated debentures 2, Repayment of subordinated debentures (500) (989) (953) Issue of preferred shares 613 1, Redemption of preferred shares for cancellation (300) (150) (250) Issuance costs (11) (23) (6) Issue of common shares Purchase of common shares for cancellation (55) (646) (844) Sales of treasury shares Purchase of treasury shares (76) (133) (208) Dividends paid (2,688) (2,278) (1,807) Dividends/distributions paid by subsidiaries to non-controlling interests (33) (59) (47) Change in obligations related to assets sold under repurchase agreements and securities loaned (6,172) (4,070) 17,722 Change in obligations related to securities sold short (17,192) 6,436 5,861 Change in short-term borrowings of subsidiaries 1,618 (145) 620 Net cash from financing activities from continuing operations 39,198 17,374 57,711 Net cash from financing activities 39,198 17,374 57,711 Effect of exchange rate changes on cash and due from banks 883 (332) (80) Net change in cash and due from banks 6,860 (175) (600) Cash and due from banks at beginning of year 4,226 4,401 5,001 Cash and due from banks at end of year $ 11,086 $ 4,226 $ 4,401 Supplemental disclosure of cash flow information Amount of interest paid in year $ 15,967 $ 18,494 $ 14,678 Amount of income taxes paid in year $ 2,025 $ 1,352 $ 1,682 Consolidated Financial Statements Royal Bank of Canada: Annual Report

8 Consolidated Financial Statements (all tabular amounts are in millions of Canadian dollars, except per share amounts) Note 1 Significant accounting policies and estimates The accompanying Consolidated Financial Statements have been prepared in accordance with Subsection 308 of the Bank Act (Canada) (the Act), which states that, except as otherwise specified by the Office of the Superintendent of Financial Institutions Canada (OSFI), our Consolidated Financial Statements are to be prepared in accordance with Canadian generally accepted accounting principles (GAAP). The significant accounting policies used in the preparation of these financial statements, including the accounting requirements of OSFI, are summarized below. These accounting policies conform, in all material respects, to Canadian GAAP. Basis of consolidation Our Consolidated Financial Statements include the assets and liabilities and results of operations of all subsidiaries and variable interest entities (VIEs) where we are the Primary Beneficiary after elimination of intercompany transactions and balances. The equity method is used to account for investments in associated corporations and limited partnerships in which we have significant influence. These investments are reported in Other assets. Our share of earnings, gains and losses realized on dispositions and writedowns to reflect other-thantemporary impairment in the value of these investments are included in Non-interest income. The proportionate consolidation method is used to account for investments in joint ventures in which we exercise joint control, whereby our pro rata share of assets, liabilities, income and expenses is consolidated. Significant accounting changes Capital Disclosures and Financial Instruments Disclosures and Presentation On November 1, 2007, we adopted three new presentation and disclosure standards that were issued by the Canadian Institute of Chartered Accountants (CICA): Handbook Section 1535, Capital Disclosures (Section 1535), Handbook Section 3862, Financial Instruments Disclosures (Section 3862), and Handbook Section 3863, Financial Instruments Presentation (Section 3863). Section 1535 specifies the disclosure of (i) an entity s objectives, policies and processes for managing capital, (ii) quantitative data about what the entity regards as capital, (iii) whether the entity has complied with any capital requirements, and (iv) if it has not complied, the consequences of such non-compliance. Sections 3862 and 3863 substantially replaced Handbook Section 3861, Financial Instruments Disclosure and Presentation, revised and enhanced its disclosure requirements and continued its presentation requirements. These new sections place increased emphasis on disclosures about the nature and extent of risks arising from financial instruments and how the entity manages those risks. In October 2008, the CICA issued amendments to Handbook Section 3855, Financial Instruments Recognition and Measurement, Section 3861, Financial Instruments Disclosure and Presentation and Section 3862, Financial Instruments Disclosure, permitting, under certain circumstances, financial assets to be reclassified from heldfor-trading to available-for-sale or from available-for-sale to loans and receivables. Financial assets that were classified as held-for-trading using the fair value option cannot be reclassified. These amendments were effective for us on August 1, 2008, and details of the securities reclassified are presented in Note 3. Translation of foreign currencies Monetary assets and liabilities denominated in foreign currencies are translated into Canadian dollars at rates prevailing at the balance sheet date. Non-monetary assets and liabilities are translated into Canadian dollars at historical rates. Income and expenses denominated in foreign currencies are translated at average rates of exchange for the year. Assets and liabilities of our self-sustaining operations with functional currencies other than the Canadian dollar are translated into Canadian dollars at rates prevailing at the balance sheet date, and income and expenses of these foreign operations are translated at average rates of exchange for the year. Unrealized gains or losses arising as a result of the translation of our foreign self-sustaining operations along with the effective portion of related hedges are reported as a component of Other comprehensive income (OCI) on an after-tax basis. Upon disposal or dilution of our interest in such investments, an appropriate portion of the accumulated net translation gains or losses is included in Non-interest income. Other foreign currency translation gains and losses are included in Non-interest income. Securities Securities are classified, based on management s intentions, as held-for-trading, available-for-sale or held-to-maturity. Held-for-trading securities include securities purchased for sale in the near term and securities designated as held-for-trading under the fair value option and are reported at fair value. Obligations to deliver Trading securities sold but not yet purchased are recorded as liabilities and carried at fair value. Realized and unrealized gains and losses on these securities are recorded as Trading revenue in Noninterest income. Dividend and interest income accruing on Trading securities is recorded in Interest income. Interest and dividends accrued on interest-bearing and equity securities sold short are recorded in Interest expense. Available-for-sale securities include: (i) securities which may be sold in response to or in anticipation of changes in interest rates and resulting prepayment risk, changes in foreign currency risk, changes in funding sources or terms, or to meet liquidity needs; and (ii) loan substitute securities which are client financings that have been structured as after-tax investments rather than conventional loans in order to provide the clients with a borrowing rate advantage. Available-for-sale securities are measured at fair value with the difference between the fair value and its amortized cost, including changes in foreign exchange rates, recognized in OCI, net of tax. Purchase premiums or discounts on available-for-sale debt securities are amortized over the life of the security using the effective interest method and are recognized in Net interest income. Investments in equity instruments classified as available-for-sale that do not have a quoted market price in an active market are measured at cost. Held-to-maturity securities are debt securities where we have the intention and ability to hold the investment until its maturity date. These securities are carried at amortized cost using the effective interest method. Interest income and amortization of premiums and discounts on debt securities are recorded in Net interest income. We hold a nominal amount of held-to-maturity securities in our normal course of business. All held-to-maturity securities have been included with Available-for-sale securities on our Consolidated Balance Sheets. At each reporting date, and more frequently when conditions warrant, we evaluate our available-for-sale and held-to-maturity securities with unrealized losses to determine whether those unrealized losses are other-than-temporary. This determination is based on consideration of several factors including: (i) the length of time and extent to which the fair value has been less than its amortized cost; (ii) the severity of the impairment; (iii) the cause of the impairment and the financial condition and near-term prospects of the issuer; and (iv) our intent and ability to hold the investment for a period of time sufficient to allow for any anticipated recovery of fair value. If our assessment indicates that the impairment in value is other-than-temporary, or we do not have the intent or ability to hold the security until its fair value recovers, the security is written down to its current fair value, and a loss is recognized in net income. 132 Royal Bank of Canada: Annual Report 2008 Consolidated Financial Statements

9 Gains and losses realized on disposal of available-for-sale securities and losses related to other-than-temporary impairment in value of available-for-sale securities are included in Non-interest income as Net gain or losses on available-for-sale securities. We account for all of our securities using settlement date accounting except that changes in fair value between the trade date and settlement date are reflected in income for securities classified or designated as held-for-trading while changes in the fair value of available-for-sale securities between the trade and settlement dates are recorded in OCI. Fair value option A financial instrument can be designated as held-for-trading (the fair value option) on its initial recognition, even if the financial instrument was not acquired or incurred principally for the purpose of selling or repurchasing it in the near term. An instrument that is classified as held-for-trading by way of this fair value option must have a reliably measurable fair value and satisfy one of the following criteria established by OSFI: (i) it eliminates or significantly reduces a measurement or recognition inconsistency that would otherwise arise from measuring assets or liabilities, or recognizing gains and losses on them on a different basis; (ii) it belongs to a group of financial assets or financial liabilities or both that are managed and evaluated on a fair value basis in accordance with our risk management or investment strategy, and are reported to senior management on that basis; or (iii) it is an embedded derivative in a financial or non-financial host contract and the derivative is not closely related to the host contract. Financial instruments designated as held-for-trading using the fair value option are recorded at fair value and any gain or loss arising due to changes in fair value are included in net income. These instruments cannot be reclassified out of held-for-trading category while they are held or issued. Transaction costs Transaction costs are expensed as incurred for financial instruments classified or designated as held-for-trading. For other financial instruments, transaction costs are capitalized on initial recognition. Assets purchased under reverse repurchase agreements and sold under repurchase agreements We purchase securities under agreements to resell (reverse repurchase agreements) and take possession of these securities. Reverse repurchase agreements are treated as collateralized lending transactions whereby we monitor the market value of the securities purchased and additional collateral is obtained when appropriate. We also have the right to liquidate the collateral held in the event of counterparty default. We also sell securities under agreements to repurchase (repurchase agreements), which are treated as collateralized borrowing transactions. Reverse repurchase agreements and repurchase agreements are carried on our Consolidated Balance Sheets at the amounts at which the securities were initially acquired or sold plus accrued interest, respectively, except when they are designated using the fair value option as held-for-trading and are recorded at fair value. Interest earned on reverse repurchase agreements is included in Interest income in our Consolidated Statements of Income, and interest incurred on repurchase agreements is included in Interest expense in our Consolidated Statements of Income. Changes in fair value for reverse repurchase agreements and repurchase agreements carried at fair value under the fair value option are included in Trading revenue in Non-interest income. Loans Loans are recorded at amortized cost unless they have been designated as held-for-trading using the fair value option. Loans recorded at amortized cost are net of an allowance for loan losses and unearned income which comprises unearned interest and unamortized loan fees. Loans designated as held-for-trading are carried at fair value. Loans stated at amortized costs are subject to periodic impairment review and are classified as impaired when, in management s opinion, there is no longer reasonable assurance of the timely collection of the full amount of principal or interest. Whenever a payment is 90 days past due, loans other than credit card balances and loans guaranteed or insured by a Canadian government (federal or provincial) or a Canadian government agency (collectively, Canadian government) are classified as impaired unless they are fully secured and collection efforts are reasonably expected to result in repayment of debt within 180 days past due. Credit card balances are written off when a payment is 180 days in arrears. Loans guaranteed by a Canadian government are classified as impaired when the loan is contractually 365 days in arrears. When a loan is identified as impaired, the accrual of interest is discontinued and any previously accrued but unpaid interest on the loan is charged to the Provision for credit losses. Interest received on impaired loans is credited to the Provision for credit losses. Impaired loans are returned to performing status when all past due amounts, including interest, have been collected, loan impairment charges have been reversed, and the credit quality has improved such that timely collection of principal and interest is reasonably assured. When an impaired loan is identified, the carrying amount of the loan is reduced to its estimated realizable amount, measured by discounting the expected future cash flows at the effective interest rate inherent in the loan. In subsequent periods, recoveries of amounts previously written off and any increase in the carrying value of the loan are credited to the Allowance for credit losses on our Consolidated Balance Sheets. Where a portion of a loan is written off and the remaining balance is restructured, the new loan is carried on an accrual basis when there is no longer any reasonable doubt regarding the collectability of principal or interest, and payments are not 90 days past due. Assets acquired in respect of problem loans are recorded at their fair value less costs of disposition. Fair value is determined based on either current market value where available or discounted cash flows. Any excess of the carrying value of the loan over the recorded fair value of the assets acquired is recognized by a charge to the Provision for credit losses. Fees that relate to activities such as originating, restructuring or renegotiating loans are deferred and recognized as Interest income over the expected term of such loans using the effective interest method. Where there is reasonable expectation that a loan will result, commitment and standby fees are also recognized as interest income over the expected term of the resulting loan using the effective interest method. Otherwise, such fees are recorded as other liabilities and amortized to non-interest income over the commitment or standby period. Allowance for credit losses The allowance for credit losses is maintained at levels that management considers appropriate to cover estimated identified credit related losses in the portfolio as well as losses that have been incurred, but are not yet identifiable as at the balance sheet date. The allowance relates to on-balance sheet exposures, such as loans and acceptances, and off-balance sheet items such as letters of credit, guarantees and unfunded commitments. The allowance is increased by a charge to the provision for credit losses and decreased by the amount of write-offs, net of recoveries. The allowance for credit losses for on-balance sheet items is included as a reduction to assets, and the allowance relating to off-balance sheet items is included in Other liabilities. The allowance is determined based on management s identification and evaluation of problem accounts for estimated losses that exist on the remaining portfolio, and on other factors including the composition and credit quality of the portfolio, and changes in economic and business conditions. The allowance for credit losses consists of specific allowances and the general allowance. Consolidated Financial Statements Royal Bank of Canada: Annual Report

10 Note 1 Significant accounting policies and estimates (continued) Specific allowances Specific allowances are recorded to recognize estimated losses on both retail and wholesale loans that have become impaired. The losses relating to wholesale borrowers including small business loans individually managed are estimated using management s judgment relating to the timing of future cash flow amounts that can be reasonably expected from the borrowers, financially responsible guarantors and the realization of collateral. The amounts expected to be recovered are reduced by estimated collection costs and discounted at the effective interest rate of the obligation. The losses relating to retail portfolios, including residential mortgages, and personal and small business loans managed on a pooled basis are based on net write-off experience. For credit cards, no specific allowance is maintained as balances are written off when a payment is 180 days in arrears. Personal loans are generally written off at 150 days past due. Write-offs for other loans are generally recorded when there is no realistic prospect of full recovery. General allowance A general allowance is established to cover estimated credit losses incurred in the lending portfolio that have not yet been specifically identified as impaired. For heterogeneous loans (wholesale loans including small business loans individually managed), the determination of the general allowance is based on the application of estimated probability of default, gross exposure at default and loss factors, which are determined by historical loss experience and delineated by loan type and rating. For homogeneous portfolios (retail loans) including residential mortgages, credit cards, as well as personal and small business loans that are managed on a pooled basis, the determination of the general allowance is based on the application of historical loss rates. In determining the general allowance level, management also considers the current portfolio credit quality trends, business and economic conditions, the impact of policy and process changes, and other supporting factors. Acceptances Acceptances are short-term negotiable instruments issued by our clients to third parties which we guarantee. The potential liability under acceptances is reported in Liabilities Other on our Consolidated Balance Sheets. The recourse against our clients in the case of a call on these commitments is reported as a corresponding asset of the same amount in Assets Other. Fees earned are reported in Non-interest income. Derivatives Derivatives are primarily used in sales and trading activities. Derivatives are also used to manage our exposures to interest, currency, credit and other market risks. The most frequently used derivative products are interest rate swaps, interest rate futures, forward rate agreements, interest rate options, foreign exchange forward contracts, currency swaps, foreign currency futures, foreign currency options, equity swaps and credit derivatives. All derivative instruments are recorded on our Consolidated Balance Sheets at fair value, including those derivatives that are embedded in financial or non-financial contracts that are not closely related to the host contracts. An embedded derivative is a component of a hybrid instrument that includes a non-derivative host contract, with the effect that some of the cash flows of the hybrid instrument vary in a way similar to a stand-alone derivative. When an embedded derivative is separated, the host contract is accounted for based on GAAP applicable to contract of that type without the embedded derivative. All embedded derivatives are presented on a combined basis with the host contracts although they are separated for measurement purposes. When derivatives are used in sales and trading activities, the realized and unrealized gains and losses on derivatives are recognized in Non-interest income Trading revenue. Derivatives with a positive fair value are reported as Derivative assets and derivatives with a negative fair value are reported as Derivative liabilities. Where we have both the legal right and intent to settle derivative assets and liabilities simultaneously with a counterparty, the net fair value of the derivative positions is reported as an asset or liability, as appropriate. Market and credit valuation adjustments, margin requirements and premiums paid are also included in Derivative assets, while premiums received are shown in Derivative liabilities. When derivatives are used to manage our own exposures, we determine for each derivative whether hedge accounting can be applied, as discussed below. To determine the fair value adjustments on RBC debt designated as held-for-trading, we calculate the present value of the instruments based on the contractual cash flows over the term of the arrangement by using RBC s effective funding rate at the beginning and end of the period with the unrealized change in present value recorded in Net income. Hedge accounting We use derivatives and non-derivatives in our hedging strategies to manage our exposure to interest, currency, credit and other market risks. Where hedge accounting can be applied, a hedge relationship is designated and documented at inception to detail the particular risk management objective and the strategy for undertaking the hedge transaction. The documentation identifies the specific asset, liability or anticipated cash flows being hedged, the risk that is being hedged, the type of hedging instrument used and how effectiveness will be assessed. The hedging instrument must be highly effective in accomplishing the objective of offsetting either changes in the fair value or anticipated cash flows attributable to the risk being hedged both at inception and throughout the life of the hedge. Hedge accounting is discontinued prospectively when it is determined that the hedging instrument is no longer effective as a hedge, the hedging instrument is terminated or sold, or upon the sale or early termination of the hedged item. Refer to Note 7 for the fair value of the derivatives and non-derivative instruments categorized by their hedging relationships, as well as derivatives that are not designated in hedging relationships. Fair value hedges In a fair value hedging relationship, the carrying value of the hedged item is adjusted for changes in fair value attributable to the hedged risk and recognized in Non-interest income. Changes in the fair value of the hedged item, to the extent that the hedging relationship is effective, are offset by changes in the fair value of the hedging derivative, which are also recognized in Non-interest income. When hedge accounting is discontinued, the carrying value of the hedged item is no longer adjusted and the cumulative fair value adjustments to the carrying value of the hedged items are amortized to Net income over the remaining term of the original hedging relationship. We predominantly use interest rate swaps to hedge our exposure to the changes in a fixed interest rate instrument s fair value caused by changes in interest rates. We also use, in limited circumstances, certain cash instruments to hedge our exposure to the changes in fair value of monetary assets attributable to changes in foreign currency exchange rates. Cash flow hedges In a cash flow hedging relationship, the effective portion of the change in the fair value of the hedging derivative, net of taxes, is recognized in OCI while the ineffective portion is recognized in Non-interest income. When hedge accounting is discontinued, the amounts previously recognized in Accumulated other comprehensive income (AOCI) 134 Royal Bank of Canada: Annual Report 2008 Consolidated Financial Statements